February 1, 2016 – Now that the confetti has settled from New Year’s Eve celebrations, tax season is upon us, and you may have noticed a familiar document in your mailbox: your W2s. Although preparing taxes can be an extra strain on what is an already busy schedule, it also presents an annual opportunity to evaluate your finances and think about long-term financial planning.
Unlike not paying your taxes, nobody will come after you if you’re not planning for retirement—but that doesn’t make it any less essential. Failing to think about how you will continue to finance your lifestyle once you are no longer working can spell disaster in the final stages of life. The I’ll worry about it later attitude can mean putting off planning until it is too late.
Facing retirement planning head-on can be daunting, but taking the process step-by-step can ease the intimidation factor. The first step in long-term financial planning is figuring out, based on your current financial picture, the difference between your expected retirement income and need. If this figure is calculated early, there will be plenty of time to take steps to close that gap. Research by EBRI shows that those who take the time to calculate that number- regardless of its size- feel more confident in their ability to afford a comfortable retirement.
If you are married or have a partner, do this exercise together. However, women are likely to live longer than their spouses, so keep in mind how your retirement income might change if your spouse passes away.
The first step in calculating your expected retirement gap is totaling your expected sources of retirement income. There are usually three sources of retirement income, often referred to as the three legged stool: Social Security, employer-provided pensions or retirement plans, and personal savings and investments.
1. Social Security: Social Security is an important source of retirement income, especially for women. To find out your Social Security benefit, sign up for an account at www.ssa.gov/myaccount.
2. Pensions and Retirement Plans: Traditional employer-provided pension plans offer you a set amount each month after your retirement based on your salary and how many years you worked. 401(k) and 403(b)-type plans allow you to invest money in a fund that you will have access to when you retire.
3. Personal Savings and Investments: Personal savings and investments may be spread throughout a number of accounts. This could include your home, however, since it is not a liquid asset, be careful how you calculate it, and consider whether you plan to rent or sell it after retirement.
Refer to WISER’s Financial Steps for Caregivers booklet for a worksheet that will help you add up your sources of retirement income.
The second step in calculating your expected retirement gap is figuring out how much you will need in retirement. Many experts recommend expecting to need at least 85% of your pre-tax income in order to maintain your current living standard. WISER instead recommends 100% to take into account the longer life spans of women and to safeguard for unexpected healthcare costs.
Calculate the difference between the numbers you found in steps one and two to find the gap between your retirement income and need. The good news is there are many easy-to-use online calculators that can help you with these steps. Check out the calculators tab at www.retireonyourterms.org for a variety of retirement planning tools. Once you have that number, you can begin to take steps to close the gap, such as prioritizing investing and finding more ways to save.
Whether you feel you are over-prepared or woefully unprepared for retirement, acknowledging the current state of your finances is a crucial first step towards achieving security during your later years of life.